Law & Society

The Tax Authorities of Mexico and the United States (the "Authorities") have reached a mutual Agreement (the "Agreement") on the tax regime applicable to maquiladoras for years 2000 through 2002. The Authorities are of the opinion that the Agreement provides legal certainty to current and potential investors in the maquila industry by establishing specific procedures to comply with tax provisions applicable in each country, and by eliminating potential double taxation.

The Agreement constitutes a Mutual Agreement in accordance with the Convention between Mexico and the United States for the avoidance of double taxation and the prevention of fiscal evasion with respect to taxes on income (Tax Treaty).

The Authorities agreed that no permanent establishment shall be deemed to exist, provided that maquiladoras comply with either of the two following options for taxable years 2000, 2001 and 2002:

1. The taxable income of the maquila enterprise represents at least the higher of:
   
   (i) 6.9% of the value of assets owned by a foreign resident and by the maquiladora (the value of the assets owned by the foreign resident shall be computed in accordance with rules 3.33.2 and 3.33.3 of the Mexican Administrative Regulations in force in 1999), used in the maquila activity, or
   
   (ii) 6.5% of the deductions (costs and expenses) of the maquila enterprise. For these purposes, costs and expenses means all ordinary operating expenses, but does not include extraordinary or non-operating items, such as financing costs, exchange gains and losses or casualty losses, as defined by Mexican Tax Law and Mexican GAAP. The risks associated with such items will remain with the U.S. owner and exchange losses and financing costs will be reimbursable at cost to the maquila enterprise, gains would offset amounts due to the maquila enterprise.
2. The maquila enterprise obtains from the Tax Administration Service a ruling (APA) under Article 34-A of the Federal Tax Code (FTC) confirming that it has complied with Article 64-A of the Mexican Income Tax Law (ITL). The ruling shall take into consideration for the purpose of determining taxable income in Mexico, the concepts and principles already being considered by the Mexican authorities, as well as assets (including inventory) owned by the foreign resident, used in the maquila activity. For these purposes, the value of assets shall, as in (a) (i), be computed in accordance with Administrative Rules 3.33.2 and 3.33.3. The Authorities have mentioned that the reference to the "consideration" of assets is not intended to restrict taxpayers to the use of the return on assets Profit Level Indicator (PLI). Rather, it is intended to provide flexibility to taxpayers to negotiate the appropriate return from the maquila activity, using a methodology or (PLI) that might be more appropriate to its facts and circumstances than the safe harbor described in paragraph (a). That is, although assets will be "considered", a company would have an opportunity to demonstrate that, on the particular facts of its case, the activities conducted in Mexico would support a return on either costs or assets (as appropriate) and the return may be lees than the return called for in the safe harbor. Under appropriate circumstances, a company could demonstrate that certain costs or assets (e.g. idle machinery and equipment or land not being used for manufacturing activities) should in fact generate no return. This would also imply that for purposes of the cost plus, the foreign assets will be taken into consideration in determining an appropriate plus.

The tax authorities will take into consideration any administrative concerns that could arise in valuing foreign owned assets.

Maquila enterprises that have applied for or obtained a ruling under Article 34-A of the FTC which covers the year 2000 or subsequent years but which was not issued in accordance with subparagraph (b) must either comply with subparagraph (a) or request a new ruling under subparagraph (b), in order to obtain the benefits set forth under the Agreement.

The application (full submission) for opting for either paragraph (a) (i), (a) (ii), or (b) must be made no later than May 31st., 2000 for those taxpayers that have not previously applied for an APA; otherwise, the application must be filed no later than April 30th, 2000.

It is understood that maquila enterprises that opt to apply either of the alternatives provided under subparagraphs (a) or (b) shall be considered to operate under conditions that are made or imposed between independent enterprises, in accordance with the provisions of Articles 64-A and 65 of the ITL, Section 482 of the Internal Revenue Code and Article 9 of the Treaty.

The Authorities have agreed that they shall endeavor beginning in the year 2000 to reach an Agreement on the permanent rules to be applied to maquila enterprises owned by residents of the United States referred to above. During such discussions, due regard should be given to Mexico's right to tax in accordance with Article 5 of the Treaty.

It is understood that the Agreement in no way constitutes measures for attributing income to a permanent establishment. It is anticipated that further guidance will be developed to implement the terms of the Agreement.